Portfolio managers and investment specialists discuss shallow risk and deep risk. David Giroux emphasizes the importance of understanding market inefficiencies. The US economy's resilience and adaptability are explored. Investing in Chinese stocks and housing market affordability are discussed. Employer-sponsored retirement plans and managing finances as a risk factor are examined. The episode ends with holiday wishes and an investment disclaimer.
Mitigating deep risk in investing involves understanding real sources, shortening bond durations, and investing in value stocks and commodity-producing firms as hedges against inflation.
Portfolio managers should focus on understanding structurally inefficient areas of the market, collaborating with quantitative resources, and establishing strong processes, including risk management, to find unique sources of value and opportunity.
Investing based on macroeconomic forecasts is challenging, and instead, investors should prioritize a company's growth potential and fundamentals over predicting the macro environment, with value stocks and commodity-producing firms serving as hedges against inflation.
The impact of artificial intelligence (AI) on labor productivity is uncertain, and it's crucial to differentiate between hardware build-out and actual productivity gains, avoiding premature assumptions about AI's effects on productivity.
The US economy's resilience is driven by services and consumption, with factors like energy independence and debt management contributing to stability, while the housing market can be indicative of recession risk and the adaptability of consumers helps prevent a housing crisis.
Deep dives
Managing Shallow and Deep Risks for Investors
During the podcast episode, author and financial historian William Bernstein discusses the concept of shallow risk and deep risk in investing. Shallow risk refers to short-term market breaks that don't produce long-term damage, like the ones seen in 2008 and 2020. Deep risk, on the other hand, results in a large fallen real value that lasts for a generation or more, such as what happened in Japan since 1990 or with US long-term government bonds between 1940 and 1980. Bernstein advises mitigating deep risk by understanding the real sources, with inflation being the most frequent one statistically. He suggests shortening bond durations to roll them over at higher rates during inflation and investing in stocks, particularly value stocks and commodity-producing firms, as they can act as hedges against inflation.
Investing Lessons from Portfolio Manager David Giroux
Portfolio manager David Giroux shares three key lessons for his younger self during his early days managing the two-room price capital appreciation fund. He emphasizes the importance of understanding structurally inefficient areas of the market and exploiting those inefficiencies, collaborating with quantitative resources earlier in his career to benefit from data-driven insights, and establishing strong processes, including risk management, from day one. Giroux highlights the need to break away from playing the same game as everyone else and to focus on finding unique sources of value and opportunity.
Great Returns, Macro Forecasts, and the Market
Portfolio manager Bill Nygren discusses the difficulty of investing based on macroeconomic forecasts. He explains that the market always anticipates and reacts before the news reaches the general public, making it challenging to time investments based on macroeconomic trends. Nygren cites examples and data showing that investing based on after-the-fact news is often too late. He highlights the importance of focusing on a company's growth potential and fundamentals rather than trying to predict the macro environment. Nygren also notes that value stocks and the stocks of commodity-producing firms can act as hedges against inflation.
Artificial Intelligence and Labor Productivity
CNBC senior market commentator Michael Santoli discusses the impact of artificial intelligence (AI) on labor productivity. Santoli believes it is too early to determine the extent of AI's impact and productivity gains. He emphasizes the need to wait and see how the rapid advancements in software and hardware actually translate into tangible effects on productivity. Santoli cautions against prematurely assuming that AI will lead to significant productivity gains and disinflationary effects. He suggests that it is essential to differentiate between hardware build-out and actual productivity gains, and to avoid relying solely on short-term tactical perspectives when assessing the long-term effects of AI.
The US Economy's Resilience and Housing Market
BlackRock's Chief Investment Officer of Global Fixed Income, Rick Reader, praises the resilience of the US economy, highlighting its flexibility and adaptability. He emphasizes that the US economy is primarily driven by services and consumption, which tend to remain stable during economic downturns. Reader also mentions factors such as energy independence, high spending on research and technology, and improved debt management as contributing to the stability of the US economy. On the housing market, he acknowledges elevated home prices and the challenges of affordability due to rising mortgage rates, but he believes that the flexibility of the market and the adaptability of consumers will prevent a housing market crisis. Reader suggests that the housing market can be a useful indicator of recession risk and expects the US economy to continue confounding expectations.
Key Insights for Advisors and Clients
Northern Trust's Chief Investment Officer, Katie Nixon, shares valuable insights for advisors and clients. She emphasizes the importance of being honest with clients, using data and visuals to make meaningful points, and collaborating with clients to help them make informed decisions. Nixon advises against information overload and suggests focusing on relevant and useful data rather than extraneous information. She also advises against attempting to predict short-term market movements and recommends maintaining a long-term perspective. Nixon advocates for clear communication that avoids industry jargon and acronyms and ensures that clients feel understood and confident in their decision-making process.
Navigating China's Market and Investment Opportunities
Martin Lau, managing partner of FSSA Investment Managers, shares insights on investing in the Chinese market. Lau believes that the Chinese market offers both bargain opportunities and risks. He acknowledges that China's growth has slowed compared to the past but sees potential for growth opportunities in companies with innovative characteristics. He suggests that China's market plays an important role in the global economy and that slower growth rates shouldn't be seen as a negative. Lau also notes the need for comprehensive and scalable retirement savings plans to ensure broader access to the retirement savings system in the US. He highlights the emergence of automatic IRAs at the state and local level as a positive step, but emphasizes the importance of a national auto IRA system to overcome challenges of geographic mobility.
Understanding Risk Factors and Liquidity
Finance professor Lubos Pastor discusses risk factors and the role of liquidity. He defines risk factors as economic variables that capture common variation in asset returns. Pastor specifically highlights liquidity as a risk factor, as it is highly correlated with asset returns beyond the stock market's overall performance. He emphasizes the effectiveness of measuring liquidity in terms of price impact and the importance of differentiating between factors and price factors that have risk premiums attached. Pastor's research highlights that liquidity as a factor is associated with higher risk-adjusted returns for assets with higher liquidity betas. He cautions against using trading volume as a measure of liquidity, as it doesn't capture the impact of liquidity evaporation during market shocks.
Enhancing Retirement Preparedness and Liquidity Risk
James Choi, a household and behavioral finance researcher, discusses the need for improvements in retirement preparedness and the impact of liquidity risk on retirement savings. Choi suggests plugging the holes in the retirement savings system to minimize early withdrawals and preserve retirement savings. He also emphasizes the importance of improving equal access to retirement savings plans by establishing a mechanism for broader participation, such as a national auto IRA. Choi highlights the potential benefits of having a single government-sponsored retirement plan to ensure retirement security for all. However, he acknowledges the complexities and political considerations in implementing such a system. Choi also mentions the progress made through automatic IRAs at the state and local level, but highlights the need for a national approach to overcome challenges of geographic mobility and account consolidation.
Understanding Share Repurchases and Risk Factors
Professor Oswald De Moteren discusses share repurchases and risk factors. De Moteren explains that share repurchases are correlated with many assets' performance and considers liquidity as a risk factor. He distinguishes between a factor and a price factor, highlighting that not every factor is priced. De Moteren's research supports the view that liquidity is priced, as assets with high liquidity betas tend to have higher risk-adjusted returns. He also clarifies the importance of considering factors as price factors, where assets with high betas have higher average returns. De Moteren suggests that a single government-sponsored retirement plan styled after the Thrift Savings Plan or a national auto IRA could be beneficial.
On this week’s episode, we’ll feature some of our favorite clips from interviews we’ve done with portfolio managers and other investment specialists over the past year. It’s the companion to last week’s “Best Of” episode, in which Christine compiled some of her favorite moments from conversations we’ve had with financial planners, advisors, and retirement researchers.
